As an economist who knows that high personal income taxes are largely responsible for our current economic woes, I am looking forward to a tax cut early this year.
What concerns me, however, is that politicians have never fully appreciated the importance of the American consumer to the health of the U.S. economy. The consumer is the heart of the U.S. economy. Yet most economists focus entirely on the health of businesses or investments or other activity that is said to control consumption. They do not fully realize that if the consumer is well, everything else will follow.
This misconception explains why we are slowly taxing ourselves to death.
It also explains why Congress has never attempted to manipulate the economy by taking advantage of the spending and saving patterns of different groups of consumers.
From my perspective as a market research consultant who follows consumer markets, it is clear to me that American consumer expenditure patterns are in real trouble. Inflation, higher taxes and record high interest rates have steadily eroded the real purchasing power of the American family since 1972.
Some consumer groups, of course, are hurt more than others. Market researchers know that spending, saving and debt patterns vary widely among different age and income groups. These distinct patterns influence thousands of advertising, pricing and other marketing decisions made every day.
They could also be of great value in developing a tax policy.
For example, consumers whom we can calssify as young and in low-income households (total income is less than $15,000 and the head of household is between 25 and 34 years old) are very important to the economy. In 1979, about 9.9 percent of the country's 83 million households fell into this category. They accounted for only 4.3 percent of national disposable income, but their importance to many key markets has traditionally far outweighed their share of disposable income.
These households traditionally spend virtually everything they earn. Faced with heavy financial burdens, including raising young children and providing for housing and transportation, their financial requirements are great. Yet they are just beginning their careers as earners and are taking home fewer dollars than at any other time in their work lives. They are significant users of credit.
Recent data from large-sample surveys show the high spending rate of this group. Last July, for example, this group accounted for 9 percent of general merchandise sales and 7.6 percent of new-car expenditures.
Interestingly, the young, low-income group traditionally has had spending levels that were even higher. Two years before, in July 1978, when credit was much more available to this group, their share of the new-car market was 2 percent higher and their actual expenditure on new cars was 85 percent greater.
This confirms the common wisdom that low-income young people are extremely vulnerable to inflation and high interest rates. They are spending an enormous portion of their income on necessity items; and given access to debt and increased disposable income, they will spend even more.
Older, high-income groups, on the other hand, present an entirely different profile. Middle-aged, high-income households (total income is above $25,000 and head of household is between 45 and 54 years old) represented 6.7 percent of the nation's households in 1979. They controlled about 14.1 percent of real disposable income. But their spending does not come close to matching their share of disposable income.
Last July, for instance, upper-income, middle-aged households accounted for 8.5 percent of general merchandise sales and 10 percent of new-car sales.
This pattern makes sense. Households in this group have fewer financial burdens (education costs are an exception) and greater financial resources. Their mortgage payments are a lesser burden, typically reflecting home purchase prices and interest rates prevalent 20 years ago. Many of their children have left the home.
While their spending rate is low, this group nevertheless is tremendously significant to the economy. They help prop up the markets during periods of high unemployment and recession when lower-income groups are less active. In addition, they are vital to the luxury and high-ticket markets.
New-car sales data confirm this point. During the past two years, upper-income, older households have become increasingly important to new-car sales as younger and less affluent households have been forced to either delay their purchases or buy used cars. Our large sample survey data show that the middle-aged, upper-income group actually increased its expenditures on new cars from an annual rate of $3.3 billion in July 1978 to $4.9 billion last July. Overall new-car sales, meanwhile, went from an annual rate of $71 billion in July 1978 to $48 billion in July 1980, and, as a result, the middle-aged, upper-income group's contribution to total sales climbed from 4.7 percent to 10 percent.
My point in making these observations is to show that consumer markets are more complex than generally realized on Capitol Hill, where the common wisdom does not go much deeper than the perception that a tax cut will increase spending. This is, of course, true, but much more incisive conclusions can be drawn.
I also am concerned that pressures on consumers -- steadily increasing tax rates due to inflation, absurdly high interest rates and declining real disposable income -- are jeopardizing the structure of our economy, wreaking havoc in key markets and depresssing savings and, ultimately, capital formation.
A tax cut can provide a measure of relief for the beleaguered consumer/taxpayer. My agenda calls for large personal income-tax reductions, cuts that will be meaningful to individual taxpayers and that go beyond merely neutrlizing the automatic tax increases caused by inflation. To provide meaningful relief to consumers/taxpayers and to include business tax cuts, we need a tax cut of a minimum $60 billion to $70 billion for 1981.
The Senate Finance Committee's proposal of last September illustrates my point. Out of a proposed cut of $39 billion for 1981, a little more than $22 billion would have been funneled into personal income-tax reduction. Under the committee's formula, that would have meant only an extra $213 for a taxpayer in the $15,000-to-$20,000 bracket. That is simply not enough to make a real difference.
In addition to across-the-board tax cuts, I would lower tax rates for those income groups that are most important to any industry that the nation decides needs stimulating. In other words, if we decide that general merchandise sales need help, we should further cut low-income group taxes because they will put most of their extra disposalbe income into general spending.
If special income-tax cuts for specific income groups are politically impossible, I would recommend special tax credits.
At any rate, these breaks should be withdrawn as soon as those industries singled out for special help begin to revive.
I do not believe that tax cuts are inflationary. Increased demand exacerbates inflation when the limits of production are approached. In these hard times, few industries are at the limits of production.
Over the long run, a personal income-tax cut will be counterinflationary because it will contribute to savings, the first step in the process of capital formation, investment and increased productivity.
I think it is time for the nation to realize that most of our inflation is not demand-driven.